20 March 2013

Other People’s Money #nlpoli

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This is the second in a four part series that offers an interpretation of the current financial crisis the provincial government is facing.  The first instalment – “The origins of rentierism in Newfoundland and Labrador” – appeared on Tuesday.

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As much as people imagine a great difference between the Confederate and anti-Confederate forces during the National Convention, the two agreed on one thing:  someone else would have to pay for Newfoundland’s return to responsible government.

The London delegation asked the British government to provide the erstwhile country with money. The British balked, pleading their own financial hardship after a long and costly war.  That refusal is largely what prompted Peter Cashin to claim that the British were trying to sell the country the Canadians.  As many words that have been spilled and as many books sold trying to prove the conspiracy existed,  there’s never been a shred of proof that such a plot ever existed outside Cashin’s frustration.

The Ottawa delegation found wealthy Canada more receptive to the Newfoundlanders expectations and after a first referendum and a run-off vote, Newfoundlanders and Labradorians voted to become part of Canada.  For Labradorians the moment was especially sweet.  The National Convention and the referenda were the first time any residents of the mainland part of the country had ever been allowed to vote.

Newfoundland’s public debt in 1949 was about $100 million, what it had been at the in 1934.  The difference was that the government had accumulated some sinking funds and about $26 million in surpluses over the war years, leaving a net debt of $70 million. [FN 1] 

A brief on the country’s finances prepared in 1947 for the Convention showed that in 1946 government income sources had not changed significantly.[FN 2]  Out of total revenue of $33.5 million, 53% or slightly more than $18 million came from customs and excise. Natural resource rents accounted for a mere $439,000.  The local private sector lacked the capital to develop the country’s natural resources for export.  The Commission could not afford to do it any more than the elected governments before it had.  Like the elected governments before 1934, the Commission took the view that the government could only attract foreign capital to the country by generous concessions and low rents. 

Even at the time, experienced government officials recognised that the Newfoundland resource rents were extraordinarily low.  In 1936, the Commission approved a grant of 2,000 square miles to a company interested in mineral developments.  The grant would last for 99 years and obliged the company to pay an annual rental of five cents per acre, a royalty of 10 cents per ton of ore, and five percent of gross output for precious metals.

The Commission asked the Dominions Office to review the deal before sealing it. The Dominions Office consulted with the Colonial Office and rejected the deal.  The Commission allowed the company to continue exploration under a $10,000 bond and a further good-faith payment of $80,000.  The Governor told the Dominions Office privately that the deal was better than similar ones in Canada and was better than one negotiated for the development at Buchans.

The Colonial Office recommended an approach taken from Tanganyika.  The company could have a lease for 21 years subject to renewal for a further 21 years.  The royalties would remain the same but the annual rental would be 50 cents per acre, rather than the five cents originally approved by the Commission.  In the subsequent negotiations, the Dominions Office proposed chopping the grant into two parcels of a thousand acres each along with a clause that would prevent the company from simply sitting on the assets and leaving them undeveloped. 

In the end, the Dominions Office relented under pressure from the Newfoundland government, which concluded a deal for 10 years that could be extended another 40 years.  The rental remained at five cents per acre and the royalty at 10 cents per ton of ore.  The government received 1/30th of the value of precious metals. The company also had to meet spending commitments for the period up to 1945. Still, the company was not entirely satisfied.  They came back again and again to revise the deal.  [FN 3]

Old Habits

After 1949,  the Newfoundland government’s preoccupation was economic development, exemplified by NALCO on the one hand and the string of failed industries in the 1950s all paid out of government funds. [FN 4]   The general approach to attracting industry throughout the 1950s and 1960s was the same as that of governments both elected and appointed before 1949. 

The lure of old ways dies hard.  In the early 21st century, the Conservatives under first Danny Williams and then Kathy Dunderdale returned to the 1960s to find a model for their Lower Churchill development at Muskrat Falls, itself a project that dated back to the 1960s.  The one they settled on was Bay d’Espoir, a project paid for by entirely taxpayers to deliver cheap electricity to industry.  It failed.

Uncle Ottawa

What enabled the Newfoundland government to make these subsidized deals was Confederation and the financial resources of the federal government that flowed from the start.  The only local industries to suffer after Confederation were the small local manufacturers who had lived under the protective tariffs on which the government thrived. At Confederation, the federal government assumed $62 million of Newfoundland’s public debt leaving the new province with less than $10 million in debt of its own and all the accumulated surpluses.

Confederation put cash into people’s hands in the form of the emerging Canadian social programs.  Elimination of the tariffs on consumer goods gave them something to buy.  By the late 1940s,  Canada had become the chief source of Newfoundland imports, according to the Dominions Office brief prepared for the National Convention.  Canada was the source of 61% of imports, followed by the United States at 31% and a mere 5% from the United Kingdom and Ireland.

Confederation also put cash into the provincial government hands as well.  The federal government took $30 million in taxes and duties out of the former Dominion in 1949, as Mayo notes.  But Uncle Ottawa put $50 million in the provincial government bank account in the form of transfers under the Terms of Union and federal-provincial fiscal relations.  The 1957 Equalization program formalised the previous temporary arrangements.  By the time the federal and provincial governments made Equalization a constitutionally mandated program in 1982, federal transfers made up at least half of the Newfoundland government’s annual spending. 

The Dependence of Independence

That situation continued until the early 21st century when oil royalties pushed aside federal Equalization hand-outs.   Even then, the provincial government’s addiction to easy money from outside the province was a hard one to break.  In late 2003, the new Conservative administration under Danny Williams started a campaign to force the federal government to transform a set of limited, declining transfers into a permanent hand-out. 

The so-called Equalization offsets in the 1985 Atlantic Accord were supposed to help the province switch from reliance on the Equalization payments to a new status as a province that did not qualify for the transfer.  The Conservatives’ initial proposal was for a two-part change.    First, all of Newfoundland’s “royalties, provincial corporate income tax, and fees forfeitures and bonuses” would be left out of the Equalization calculations entirely.   Secondly,  the federal government would replace the 1985 offset payments with a new transfer “equal to 100% of the amount of the annual direct provincial revenues” that would normally count against any Equalization entitlement.

In effect,  the Conservative sought 100% of oil-related income which the provincial government already received in its entirety.  They also wanted Equalization payments as if the oil income never existed in the first place plus a new payment from Ottawa equal to the oil-related revenues.  In the end, the Conservatives settled for the original 1985 offset payments,  application of the Equalization program as it applied to every province, a single payment of $2.0 billion and an additional one-time transfer of about $600 million.  [FN 5]

No 12-Step Program for This Dependency

Addictions, as it seems, are hard to break.  When they signed the deal in January 2005, the Conservatives had a forecast from their favourite economist that the province would no longer qualify for Equalization by 2010 or thereabouts. Despite knowing that the offset payments would run out in 2011-2012, the Conservatives still blame their current financial woes on a loss of hand-outs from Uncle Ottawa. 

In 2013, finance minister Jerome Kennedy faced what he and his colleagues described as a potential cash shortfall of $1.6 billion in 2013 and 2014.  In the House of Assembly on March 12, though, he couldn’t help but moan the loss of those federal cheques:

Being a have Province, …means we can pay our own way. It means that we make our own decisions, as I stated yesterday. Also, as I stated yesterday, …, being a have Province can mean that we have less money, because right now – and I outlined this yesterday – if you look at where our revenues comes from, in 2011-2012, midyear, 35.8 per cent of our revenues came from offshore royalties. You go back to 2004-2005, 34 per cent of our revenues at that point came from federal transfers.

Even though oil-related cash in 2012 was greater than combined federal transfers (Equalization and program funding) ever were, the province’s finance minister cried about the end of hand-outs.

Kennedy under-estimated the place that non-renewable resource revenues hold in the provincial budget, though. Oil and minerals accounted for about 50% of the provincial gross domestic product in 2011.  If you included  oil royalties, mineral royalties, and related personal and corporate taxes,  non-renewable resources would likely account for about half the annual revenue as well.  If 2011 is any indication, oil alone has allowed the government to increase spending to unparalleled heights across Canada.

-srbp-

The Series

Footnotes

  1. For a discussion of Newfoundland’s economy and the government’s finances at the moment of Confederation, see H.B. Mayo, “Newfoundland’s entry into the Dominion,”  The Canadian Journal of Economics and Political Science, volume 15, number 4, November 1949.  pp. 505-522.
  2. Dominions Office, Report on the financial and economic position of Newfoundland, June 1946, Cmd 6849.
  3. Described in Valerie Summers, Regime change in a resource economy:  the politics of underdevelopment in Newfoundland since 1825, (St. John’s:  Breakwater, 1994), pp. 140-148.
  4. On the failed industrialization program, see Doug Letto, Chocolate Bars and Rubber Boots, (St. John’s:  Blue Hill Publishing, 1998).  The definitive work on industrialization of the fishery is Miriam Wright’s A fishery for modern times:  the industrialization of the Newfoundland fishery, 1934-1968, (Toronto:  University of Toronto press, 2001.)
  5. What Danny wants”,  SRBP, January 2005

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